What Are The Leading And Lagging Indicators Of The UK Economy?

There are primarily two types of indicators to predict the future direction of any economy – leading and lagging. On a personal level, based on your understanding of these indicators, you could plan out your individual or family finances and career options. While on a national and a global level, governments and global institutions may chalk out their budget allocations accordingly, thereby giving the desired push to their economies and shaping them for a brighter future.

A leading indicator, as the name suggests, leads any change taking place in the economy – whether related to growth or a slowdown. So, any change in the leading indicator precedes an economic adjustment which is going to take place later, and so it is often used to make a forecast.

A lagging indicator, on the other hand, shows a late reaction to any economic change. It is visible only after the adjustment (say recession) has already taken place. Thus, it is used to confirm the same.

Today, we shall take a closer look at 4 leading and lagging indicators each for the British economy.

Selected Leading Indicators

Stock markets

Stock markets are a leading indicator of an economy because the stock prices showcase what their underlying companies are expected to earn. Therefore, if the earnings are predicted to rise, it predicts growth in the economy. On the contrary, a weak or a falling market gives a signal of an economic downturn.

However, these stock markets are speculative in nature and may give false indications due to many factors like - wrong estimation of earnings, market manipulations, or excessive optimistic investor sentiments which ignore fundamental economic data. So, its always advisable to closely read through a variety of indicators, before making any conclusions.

As an example, FTSE 100, the UK company stock index comprising of its top shares, plunged by 25 per cent during January to March 2020. It was the biggest quarterly contraction at the London Stock Exchange since the year 1987. It was a leading indicator of the economic contraction ahead of the UK.

Manufacturing Activity

An increase in manufacturing activity level of an economy indicates rising demand for goods, and is a sign of growth and development; and vice-versa. The manufacturing activity recorded a sharp decline of 24.3 per cent during April 2020 in the UK, as compared to the earlier month of March, according to government statistics. So, a slump in manufacturing activity like this means that consumer demand for good is declining in the UK economy and predicts a sluggish outlook.

Retail Sales

If retail sales are going strong, they are a leading indicator of a good condition of the economy. A rise in retail sales may also translate into higher job creation, more production and a resultant further rise in overall consumer demand across the economy.

During March to May 2020, retail sales dropped drastically by 12.8 percent in Britain, according to government statistics. This leading indicator reflected that the economic activity levels are plummeting across the nation.

Housing Market

A rise in home prices is a leading indicator of an economy’s robustness, while falling prices indicate an economy slump ahead. The UK house price index fell consecutively for two months in a row during February (-0.3 per cent) and March (-0.3 per cent) 2020.

Selected Lagging Indicators

Gross Domestic Product (GDP)

GDP is considered to be the most important lagging indicator for gauging the health of an economy. However, there is a note of caution, which is that sometimes, studying it alone may not reveal a complete picture. For instance, many-a-times governments provide strong fiscal stimuli, in terms of, say, a quantitative easing which boost the production levels across goods and services, but this may be retained only for the short-term.

Nevertheless, GDP is considered a very crucial barometer of an economy’s overall well-being. As a thumb rule, if the GDP of an economy shrinks for two consequent quarters, it is declared to have entered a recession.

Britain’s GDP fell by 10.4 per cent during February to April 2020. This lagging indicator reflected that the economic output has been continuously falling and some steps should be undertaken to reverse this trend.

Unemployment Rates

For an economy which is healthy and is growing at a steady pace, the unemployment rate (simply put, the number of people looking out for work) is on the lower side. Such an economy is able to provide employment to almost all the people who are looking for work. Therefore, a low unemployment rate is a lagging indicator of an economy which is on its path to development. In contrast, if an economy starts to witness rise in its unemployment levels, it indicates that it is slowing down.

So, what are these rates in the UK at present? While the latest available data captures figures only for the first five weeks of the lockdown (which began on 23 March 2020), it shows a rise in unemployment rate, albeit marginally. The unemployment rate in the country was estimated to be 3.9 per cent during February to April 2020, up by 0.1 per cent on a year-on-year basis. However, one must note here that the UK government is running a furlough scheme which is paying for up to 80 per cent of employee salaries for corona-hit companies across the nation. The scheme has been supporting 9 million jobs and will end in October 2020, after which the unemployment rate might rise further.

Consumer Price Index (CPI)

CPI is a common measure of inflation and simply means the rise in cost of living in an economy. A higher inflation would imply a drop in the purchasing power of consumers, which means that they will be able to afford lesser amount of goods and services with the same money; and vice-versa. It is pertinent to note here that a moderate increase in inflation rate is a lagging indicator of economic growth. Conversely, a steady fall in prices would signal that the economy is in a bad shape. In the UK, inflation rate was 0.5 per cent for May 2020, taking CPI to a four-year low level. This fall is indicative of a low production and low demand scenario in the country, which is undesirable.

Interest rates

The rates of interest in an economy represent the prevailing cost of borrowing money. If the interest rates are on the higher side, it is a lagging indicator of the economy’s good health, as demand for borrowing is high; and vice-versa.

Further, the interest rates are tinkered with in response to any changes witnessed in the economic activity in the country. For the United Kingdom, Bank of England had revised its base rate to an-all time low level of 0.1 per cent (from 0.25 per cent) in May 2020, to revive corporate lending in the country. It was done in response to the low credit-offtake levels existing in Britain since March 2020, due to the impact of the coronavirus pandemic.

Conclusion

The future direction of any economy can be predicted by studying a mix of leading and lagging indicators. One should try and use as many indicators as possible, for getting a clearer picture. One may make misleading predictions by looking at only one or two indicators. For the UK economy, it seems that the economy is going through a severe downturn, led by the widescale impact of the coronavirus pandemic.